Contractor license bond
A contractor license bond is a surety bond that a state or local licensing authority may require before it licenses or registers a contractor. It protects your customers and the public, not you: if the surety pays a claim against your bond, you generally have to pay it back.
Also called: License bond, Contractor bond
How it works
A license bond is a three-way promise:
- You, the principal, promise to follow the rules that come with your license.
- The obligee, the agency that requires the bond, holds that promise for the people it protects.
- The surety, a bonding company, backs your promise with its money, up to the bond amount.
If someone the bond protects shows that you broke the rules it covers, the surety pays the valid claim, up to the bond amount, and then turns to you for the money.
Sureties usually have you sign an indemnity agreement when you buy the bond, and that agreement is why claims come back to you. Read it before you sign. If it names you personally as well as the business, you are promising to repay claims yourself, whether or not the business is an LLC.
A bond is not insurance
Insurance moves a risk from you to the insurer. A bond doesn't: the surety pays the person with the claim first, but the loss lands back on you.
| License bond | Liability insurance | |
|---|---|---|
| Protects | Your customers and the public | You, against covered claims |
| Who bears a paid claim | You, when you repay the surety | The insurer, within the policy's terms |
| What your premium buys | The surety's backing | Coverage for covered losses |
A bond replaces none of your insurance. General liability insurance responds when you're blamed for damage or an injury, and workers' compensation covers an employee hurt on the job.
What it costs
You don't pay the bond amount. You pay the surety a premium for each term, a fraction of that amount, based on the bond amount and how likely the surety thinks a claim is: usually your credit, experience and past claims. A paid claim can make your next bond cost more or make one harder to get.
Example: Say your state requires a $10,000 license bond and a surety charges you $250 a year for it. A customer says you never finished their job, and the surety, after looking into it, pays them $2,000, then bills you for it. The claim is also on your record when the bond renews. Settling the complaint yourself would have cost no more and kept your record clean. The numbers are made up for illustration; your board sets the real bond amount.
Common mistakes
- Selling "bonded" as a guarantee. A bond pays only for what the law behind it covers, only up to its amount, and that amount may have to stretch across more than one claim. Never tell customers it covers more than it does.
- Letting it lapse. Put the renewal date next to your insurance renewals, and ask your board what happens to your license if the bond is canceled or runs out.
- Assuming one bond covers everywhere. If you work in more than one state, check each state's rules separately.
- Ignoring a claim notice. Answer the surety quickly with your records: the contract, change orders, photos and messages. That paper trail is how you show a complaint isn't valid.
- Mixing it up with project bonds. Bid, performance and payment bonds are tied to one project, usually larger commercial or public work, and promise that the job gets done or its bills get paid. A license bond is tied to your license.
Where to check the rules
Whether you need a license bond, how large it must be, how long it runs and who can claim against it are set by the law that requires it, and they differ from state to state. Start with the licensing board for your trade in your state, then ask your local building permit office whether it adds its own requirement.
A bond is the backstop, not the plan. Your workmanship warranty and a quick fix when something goes wrong are what keep a complaint from ever becoming a claim.